Sunny Budget Picture Clouded by Congress’s Inertia

By Peter Orszag -
Feb 5, 2013

The new budget and economic outlook
released by the Congressional Budget Office addresses the
biggest shortcomings in previous projections. And the more
realistic picture it paints is moderately encouraging: The
deficit dips as low as 2.4 percent of gross domestic product in
2015 before gradually rising to 3.8 percent by 2023.

Unfortunately, just 15 minutes after the CBO report came
out, President Barack Obama delivered a budget statement that,
in highlighting the fiscal paralysis in Congress, was simply
depressing. Instead of attacking unemployment and our long-term
fiscal imbalances with a combination of upfront stimulus and
delayed austerity measures, we’re likely to wind up with the
federal budget equivalent of living paycheck to paycheck, with
rolling two- or three-month budget deals.

First, let’s get back to the good news. CBO’s projections
increasingly reflect the slowdown in health-care costs that I’ve
highlighted in many previouscolumns. As CBO writes, “In recent
years, health care spending has grown much more slowly both
nationally and for federal programs than historical rates would
have indicated.” In response, the agency has lowered its
projections for Medicaid and Medicare spending.

These revisions are significant, given how enormous a role
Medicare and Medicaid play in the U.S.’s long-term fiscal
imbalance. Consider that, five years ago, CBO projected Medicare
spending in 2018 would amount to 3.9 percent of GDP. Now, in
part because CBO assumes slower cost growth, it puts 2018
Medicare spending at 3.5 percent of GDP. That difference has
about the same impact on the budget as did the upper-income tax
cuts that expired as part of the fiscal deal reached on Jan. 1.

Reasonable Expectations

CBO should also be commended for reducing its long-term
economic growth rate to be more in line with outside
projections. Last week, I noted that the budget office was
assuming long-term growth would be 2.4 percent, compared with a
credible estimate of 2.1 percent from an economist at the San
Francisco Federal Reserve. In its new report, CBO reduced its
assumption to a more reasonable 2.2 percent.

To be sure, the numbers are still biased by certain
unrealistic assumptions the agency is forced to use. It no
longer needs to assume an end to all the George W. Bush tax
cuts, as it did before the Congress made them permanent for all
but the highest-earning Americans. Nor does it need to figure
that the alternative minimum tax will take over the tax code --
never a realistic scenario.

Yet the same kind of bias remains on the spending side. The
official projections must assume that, by 2023, discretionary
spending (the part of the budget set each year by Congress) will
fall to 5.5 percent of GDP. That’s more than 3 percent of GDP
below the average from 1973 to 2012. Any bets on whether
Congress will actually stick to this path?

It’s also notable that the CBO projections contradict
claims, popular among progressive analysts, that deficit
spending when the economy is extremely weak has no adverse
impact on, and possibly even benefits, the long-term debt
picture. If that were the case, CBO’s projections would show
that the debt the U.S. has been running up over the past several
years -- from 36 percent of GDP in 2007 to 72 percent of GDP in
2012 -- would be gradually reversed. Instead, CBO shows that the
run-up is basically permanent, with debt hovering around 75
percent of GDP for the next decade.

So stimulus spending, even when the economy is very weak,
isn’t free. Nevertheless, it’s still a very good idea.

All of which explains why the budget discussions coming out
of Washington are so depressing. CBO is projecting the
unemployment rate to remain above 7.5 percent through the end of
2014. That could be attenuated with another aggressive round of
stimulus spending.

Barbell Needed

On the other hand, and despite the encouraging news on
health-care costs, the fiscal picture in the medium- and long-
term remains dark -- especially with more realistic assumptions
on discretionary spending. Because of that, and because
additional stimulus is unfortunately not free (at least under
CBO’s analysis), I will continue to argue for a barbell
strategy.

The best path forward is a comprehensive fiscal deal
combining upfront stimulus with delayed but credible austerity.
To Republicans who deny the benefits of the stimulus side: How
else would you bring the unemployment rate below 7 percent by
the end of this year? And to Democrats who don’t want any
entitlement reform: What makes you think no changes will ever be
needed? And, in any case, why risk immediate austerity, which
may be forced upon you by avoiding delayed austerity?

The bottom line is that the more realistic CBO projections
still show that unemployment remains stubbornly high and our
fiscal outlook is problematic. The barbell takes care of both
problems. Two-month budget deals address neither.

(Peter Orszag is vice chairman of corporate and investment
banking at Citigroup Inc. and a former director of the Office of
Management and Budget in the Obama administration. The opinions
expressed are his own.)

To contact the writer of this article:
Peter Orszag at orszagbloomberg@gmail.com.